Are local governments really recovering?

Janney Montgomery director and credit analyst Tom Kozlik issued a short research piece that highlighted U.S. Census data for local government revenues. The Census data suggests that local governments, in aggregate, will continue to face a difficult time in years ahead because revenues have flattened since 2009. Here is Kozlik’s chart, which maps the Census data:

Moody’s changed its view of local governments to stable from negative in a December report for the first time in four years, but cautioned that the credit quality of local governments was not as steady or solid as it had been prior to the recession:

Moody’s outlook for the US local government sector has been revised to stable from negative. Our outlook had been negative since 2009. In the aftermath of the Great Recession, stable means something new for local governments.

Just as the “new normal” economy implies a landscape of constrained growth and lower expectations, the local government sector’s “new stable” implies that credit quality is not as benign as it was before the crisis, nor will it be anytime soon.

The “new stable” means that credit risks are more visible and predictable. It means most local governments have reduced cost structures and expectations to cope with constrained resources. It means conditions are not getting worse, but neither are they returning to pre-2008 conditions.

Municipal recovery, or a move to stability, is spread unequally across the country. More from Moody’s:

The ‘new stable’ also means that the sector’s strengths are distributed unevenly. In most states, better operating conditions and proactive management have combined to allow local governments to adjust to a new reality. But there are still pockets of the country where local governments have not adjusted, or where they face particularly severe economic headwinds.

Twelve states have sectors (cities, counties or school districts) that we consider pressured (see chart below). Still, we expect the majority of local governments, even in these states, to retain strong ratings.

Here is Moody’s chart showing stressed governments:

For municipal investors, bond insurance would have previously guaranteed the credit quality of stressed local issuers. Since bond insurance has shrunk to less than 4 percent of bonds outstanding, evaluating credit quality is critical. Not all local governments are recovering. This year calls for more thorough credit analysis, not less.